QUANTITATIVE RISK

ASSESSMENT

• Risk Management Teaching Team - 2020

 OUTLINE

• QUANTITATIVE RISK ANALYSIS

QUANTITATIVE
RISK ANALYSIS
PERFORM QUANTITATIVE
RISK ANALYSIS
• The process of numerically analyzing the effect
of identified risks on overall Organization
objectives

• Quantitative analysis is performed on risks that

have been prioritized by the qualitative risk
analysis process as potentially and substantially
impacting the competing demands.
 PROCESS OF
QUANTITATIVE ANALYSIS
• Seek initial management approval
• Establish a risk assessment team
• Review information currently available within the organization
• Estimate the loss – SLE (Single Loss Expectancy )
• SLE = asset value (in $) × exposure factor (loss in successful threat exploit,
as %)

• Calculate the Annualized Rate of Occurrence (ARO) - how often a threat will
be successful in exploiting a vulnerability over the period of a year (or
Likelihood of Exploitation)

• Calculate the Annualized Loss Expectancy (ALE):

• ALE = ARO × SLE
 EXAMPLE OF
QUANTITATIVE ANALYSIS
• Risk = Risk-impact x Risk-Probability
• Loss of car: risk-impact is cost to replace car, e.g.
$10,000

• Probability of car loss: 0.10

• Risk = 10,000 x 0.10 = 1,000
• General measured per year
• Annual Loss Exposure (ALE)
Decision Making Under Risk
• Nature of risk:

• There exist a number of possible future states

of nature (Nj)

• Each Nj has a known probability (pj)

• Each alternative (Ai) has a known outcomes

for each future states (Oij)

• Expected value:
n
Ei =å ( p j ×Oij )
j=1

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 DISTRIBUTION

• Commonly used ones are beta distribution that uses two value
parameters (alpha and beta), and triangular distribution which uses
three parameters (most-likely, best-case, worst-case)
• Cost and time values are represented on x-axis and probability values
on y-axis.
PERFORM QUANTITATIVE
RISK ANALYSIS - INPUT
1. Risk Management Plan

2. Cost Management Plan

3. Schedule Management Plan

4. Risk Register

5. Enterprise Environmental Factors

6. Organizational Process Assets

TECHNIQUES USED
IN RISK ANALYSIS
 DATA GATHERING &
REPRESENTATION
TECHNIQUES

1. Interviewing = is almost like a combination of expert judgment and three-point estimates we

saw in Estimate Activity Durations or Estimate Costs processes

• You talk to different people about a set of risks that they are knowledgeable about, and gather
information about worst case, most likely and best case scenarios

• This information will help you define a budget range that helps dealing with the impact if the
risk is materialized.

2. Probability Distribution = Are used to plot range of cost and schedule associated with a risk

• This data can also be built from the three-point technique you use while interviewing people,
and try to get a range of cost and schedule that is possible if a risk is materialize
 EMV Example : Well Drilling

State of Nature (Probability)

N1 N2 N3 Expected
Alternative Value
Dry Hole Small Well Big Well
p1=0.6 p1=0.3 p1=0.1
A1: Don’t drill $0 $0 $0 $0
A2: Drill alone -500,000 300,000 9,300,000 720,000
A3: Farm out 0 125,000 1,250,000 162,500

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 DECISION TREES

• This techniques explores various investment options available

to the decision-maker under risk and incertainty and probability
event (Merrett and Sykes 1983)

• PMBOK (1996) describes decision trees as diagrams that depict

key interactions between decisions and associated chance events
as they are understood by decision-maker.
DECISION
TREES (2)
DECISION TREE EXAMPLE 2
 Risk as Variance
• Risk is variability of outcomes, measured by the variance (v x) or (more often) its square
root, the standard deviation (x)

•  

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 Example : Project Risk
Project X Project Y
Probability Profit ($) Probability Profit ($)
0,1 3.000 0,1 2.000
0,2 3.500 0,25 3.000
0,4 4.000 0,3 4.000
0,2 4.500 0,25 5.000
0,1 5.000 0,1 6.000
E(X)=0,1(3.000)+0,2(3.500)+0,4(4.000)+0,2(4.500)+0,1(5.000) = $4.000

E(Y)=0,1(2.000)+0,25(3.000)+0,3(4.000)+0,25(5.000)+0,1(6.000) = $4.000

VX=0,1(3000-4000)2+0,2(3500-4000)2+0,4(4.000-4000)2+0,2(4500-4000)2
+0,1(5.000-4000)2 = $300.000
VY=0,1(2000-4000)2+0,25(3000-4000)2+0,3(4.000-4000)2+0,25(5000-4000)2
+0,1(6.000-4000)2 = $1.300.000
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Proyek Y lebih berisiko 𝜎 𝑥 =$  548
dari pada proyek X

𝜎 𝑦 =$  1,140

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Different Approach :

• The optimistic decision maker (Risk Taker) highest possible

outcome (the maximax solution)

• The pessimist decision maker (Risk averse) highest of worst

outcome (the maximin solution)

• Hurwicz  somewhere between optimist and pessimist

• Equally likely
• Smallest difference between best and worst outcomes (minimax regret)
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 Example
Outcome
Hurwicz Equally
Alternative Maximum Minimum Likely
(N3) (N1) (=0.2)
(N2)
p3=0,1 p2=0,3 p1=0,6

A2 $9,300,000 $300,000 $ - 500,000 $1,460,000 $3,033,333

A3 $1,250,000 $125,000 0 $250,000 $458,333

Hurwicz :  (best outcome) + (1-)(Worst outcome) Alternative A2

𝑁
  ∑ 𝑂𝑢𝑡𝑐𝑜𝑚𝑒 𝑗
𝐸𝑞𝑢𝑎𝑙𝑙𝑦 𝐿𝑖𝑘𝑒𝑙𝑦 =
𝑗=1 Alternative A2
𝑁

Optimist Alternative A2 Pessimist Alternative A3

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 Minimum Maximum
Regret
State of Nature (Probability)
Alternatives
N1 : Dry Hole N2 : Small Well N3 : Big Well
p1=0.6 p1=0.3 p1=0.1

A1: Don’t drill 0 0 0

A2: Drill alone -500,000 300,000 9,300,000
A3: Farm out 0 125,000 1,250,000

Regret
Alternatives Maximum Regret
Dry Hole Small Well Big well
A1: Don’t drill 0 $300,000 $9,300,000 $9,300,000

A2 : Drill alone 500,000 0 0 500,000

A3 : Farm out 0 175,000 8,050,000 8,050,000

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QUANTITATIVE RISK ANALYSIS
TECHNIQUES & MODELLING

Modeling and simulation translate detailed uncertainties of the

project into their potential impact on project objectives

• Monte Carlo simulation is used to arrive at a likelihood of

achieving specific cost or schedule targets

• Thistechnique iteratively computes the model several times

from randomly selected input values.
 EXAMPLE : MODELING AND
SIMULATION (MONTE CARLO
TOTAL PROJECT COST)
MONTE CARLO SIMULATION

Simulation is an art and science of

designing a model which behaves in the
same way as a real system.

This model is used to determine how the

system reacts to different inputs
Four important steps
are required :
Assign a probability
distribution to each Assign the range of
variable which variation for each
affects the variable
IRR/NPV

Carry out a deterministic

Select a value for analysis with the input
values selected from
each variable within their specified
its spesific range distributions in random
combinations.
Monte Carlo Simulation
Strengths

Stochastics

Allows a probability distribution to be

used avoiding single point estimations

Provides a more representative

prediction of risk

Relatively fast
Monte Carlo Simulation
Weakness
Probability distributions are assumed based in the part on previous experience

Risk profile are often underestimated

Most of monte carlo packages, with the exception of the high ones, do not allow for interdependence of input
variables

Use of historical data can propagate previous erroneous assumptions

Subjective judgment is typically used to come up with starting points

Can become too complex and unwieldy

SENSITIVITY ANALYSIS

• Sensitivity analysis is used to produced more realistic values, supported by

a range of possible alternatives that reflect any uncertainty and provide
some means of validity assumptions
QUANTITATIVE RISK ANALYSIS
TECHNIQUES & MODELLING

Sensitivity analysis is very useful when you want to look at impact of the
risk on just one of the project objectives, while assuming that there is no
impact on the rest of them.

• This is a good way to see all risks with just one impact area and
decide how risks need to be prioritised

• For instance, just looking at cost impact of all risks will help you
see how the budget is going to be distributed across categories of
risks.
SENSITIVITY ANALYSIS

A major advantage is that it shows

the robustness and ranking of
alternative projects.
The weakness is that risks are
considered independently and
without their probability of occurence.
Most practitioners tend to present the
data in either a tabular or diagramatic
form
SENSITIVITY ANALYSIS
SENSITIVITY ANALYSIS
 EXAMPLE : SENSITIVITY
ANALYSIS - TORNADO
DIAGRAM

• Provides a visual explanation for the most important variables in

the decision making process

• The most important variables bubble up to the top of the diagram.

The less important variables fall to the bottom.
 QUANTITATIVE RISK
ANALYSIS
• Quantitative Risk Analysis may be skipped :
1. For Risk With Low Priority

2. For Risk Requiring Urgent Response

3. When There is no Sufficient Data

EXCERCISE
 QUIZ 1
If a project has a 60% chance of a US $ 100,000 profit and a
40% chance of a US $ 100,000 loss, the expected monetary
value for the project is :

A. $ 100,000 profit

B. $ 60,000 loss

C. $ 20,000 profit

D. $ 40,000 loss
 QUIZ 2
If a risk event has a 90 percent chance of occurring, and
the consequences will be US $ 10,000, what does US $
9,000 represent

A. Risk value

B. Present value

C. Expected monetary valuE

D. Contingency budget.
 Individual Assignment
Bara, Inc is newspaper distributor in Surabaya. The sales for each day, based on the the
existence of Hot Topics from Headline News for each day.

If there are hot topic in one day, the sales probability are 1200 (P=0.3) or 1000 (P=0.7).

If there is no hot topic in one day, the sales probability are 600 (P=0.4) or 700 (P=0.6)

Probability of existence of hot topic is 0.5.

If the cost of buying a newspaper is $5, and the selling price of a newspaper is $7.5,
How much the optimum number to order newspaper for each day? (use n =100)